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Diversifying with spread betting

by Pauline Paquin

As you know, I like to look at ways to diversify my investments, so that if something goes wrong with one, at least I have other eggs in other baskets. Today, let’s look at spread betting as a way to diversify. If you are not familiar with spread betting yet, it is a way of trading a wide range of financial products, such as currencies, commodities or shares.

Instead of investing in the currency or share, you place a bet, saying you believe your product will appreciate in value at the end of a term (that is called going long), or lose value (going short). Your stake then gives you a profit per point move the way you said it would, or a loss for each point it moved against you.

Like most forms of trading, there is a spread, which is the difference between the asking and the selling price, that you need to take into account. On the platform, spreads start at 0.7pts, and you have access to a range of charts to make an informed decision about your bets. If you trade like you would flip a coin, then it resembles gambling, so you should study as much as possible about the product you are about to trade before you decide to place a bet.

What I am most familiar with are currency pairs as I trade Forex on a regular basis, so in that case a currency movement can depend on the country´s economic climate, the amount of currency printed by the central bank, big political announcements, and published reports about new jobs created or the inflation rate. But a currency doesn’t move on its own, it moves in relation to another currency. For example at the moment the US Dollar is strong against the Euro, but hasn’t moved much against the British Pound since the Pound has shown strength as well. So your bet may be correct for a pair, but wrong for another one involving the same currency. And there are events you can’t plan, like an oil spill in the sea or a plane crash, and events you may think have nothing to do with currencies, but affect them. Like around the London Olympics, the Pound got pretty strong for a couple of months.

Unlike with share trading, profits from spread betting are tax-free (the profits from stocks and shares can be tax-free if you invest in an ISA, for up to £15,000 per tax year) so it makes the operation even more attractive. Spread betting also allows you to trade on margin, which means you can deposit £1,000 into your account and take a £2,000 long position. If your £2,000 position goes up £500, your account balance will be £1,500 when you close, a 50% profit. However, if your £2,000 spread bet goes down to £1,500, your account will only have £500 left to trade with. This is a great option if you know what you are doing, however, leverage can be dangerous, because if you overdo it, margin calls are very likely to happen and wipe out your balance.

On my FX platform, you can choose how much maximum leverage you want, 1:10 or 1:50 for example, depending on your risk tolerance. Another thing I always recommend is to never invest money you may need in the short term, or money you cannot afford to lose. If your position is losing this month, but you need the money to pay your rent, you will have to take the loss, while it may go up again the following month. If you get a margin call, can you still afford to pay the bills?

Spread betting is an interesting way to diversify your investments, however, you need to be really careful about the amounts you trade and the margin you use.